The choice between CFDs vs Futures is one that many UK investors face when deciding on a vehicle for their trading. The table below provides a simple guide to the differences between the two, enabling you to make the best choice for your needs.
Contracts for Difference were originally developed in London in the 1990s as a form of swap on equities that could be traded on margin, and were intended to provide a derivative product similar to futures contracts. Unlike futures, however, CFDs are mostly traded ‘over-the-counter’, meaning that they are bought and sold from an individual contract provider or broker rather than from other traders on a central exchange.
Just as futures arose from the needs of farmers and commodity producers to hedge their exposure to price risk, CFDs were created as a cost-effective method for hedge funds and similar institutions to hedge their exposure to stocks traded on the London Stock Exchange. Both products are now widely used by retail traders as a purely speculative vehicle.
Although both products share the same underlying concept of allowing investors to speculate on the price of an underlying market via a leveraged contract, there are some key differences between CFDs and Futures.
Click on any feature in the CFDs vs Futures table below for a fuller explanation:
Will I pay UK capital gains tax on my profits from CFD and futures trading?
Capital gains tax will be due on the profits from both CFDs and Futures in the UK. You will only be liable for capital gains tax if your overall gains for the year are above the annual tax-free allowance (known as the ‘Annual Exempt Amount’), so the exact amount of tax you pay on your trading profits will depend on your own unique financial circumstances. The allowance is a ‘use it or lose it’ relief, and cannot be carried over to cover gains in future years.
Most brokers will be happy to provide you with all the detailed information relating to your brokerage transactions that you or your accountant will need to report gains when completing your tax returns.
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Will I pay UK stamp duty on my profits from CFDs and futures?
No stamp duty is payable on either CFD or futures transactions in the UK. This is because both products are simply an agreement to swap the difference in the future price of an underlying market at a future time, and no physical purchase or sale of anything actually occurs.
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Can I offset losses from CFD and futures trading as a UK tax deduction?
Current tax treatment for losses incurred through CFD and Futures trading in the UK allow for these to be offset against other gains.
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Do CFD and futures contracts have an expiration/rollover date?
Futures contracts have an expiration date whereas CFDs do not, and can be held indefinitely (note, however, that financing costs make contracts for difference highly unsuitable for use as longer term investment vehicles). While expiration does not cause any loss of value to a futures contract, for traders wishing to roll their position over to the new front month contract, additional commissions and fees may be incurred.
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Are CFDs and futures a leveraged product?
Both futures and contracts for difference are leveraged instruments, but there are some differences between the way each one works in terms of margin requirements. The margin that must be maintained in a CFD account is specified by the broker/provider, whereas futures margin requirements are set by the exchange for end of day, and left to the discretion of the broker during the day.
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Is the leverage amount flexible?
Because the only other party involved in a CFD transaction is the broker providing the contract, it is at the discretion of the brokerage firm how much leverage they are willing to extend to individual traders, and you will be able to use a flexible amount of leverage up to the maximum the broker stipulates. Due to the centrally cleared nature of futures transactions, and the standardization across contracts, the amount of leverage you must employ when trading futures is not flexible. It does, however, vary from one contract to another.
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Is there a financing fee for leverage?
Leverage for CFDs works very similar to trading stocks on margin, meaning that you will be extended a loan by your broker to cover the full cost of the contract you are entering into. In order to finance your leveraged position you will be charged interest on the borrowed funds. This is charged daily with reference to the London Inter-Bank Offered Rate (LIBOR) and is debited from the open balance of your position (usually at 10pm UK time).
Futures traders, by contrast, do not need to borrow additional funds in order cover the full cost of their position; they must simply make and maintain a “good faith” deposit with their broker, according to the margin rates stipulated by the exchange’s clearing house.
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Is trading available around the clock?
The availability of a product is specific to that product. Both futures exchanges and CFD providers list the hours when a contract can be traded on their websites.
Most futures contracts are available for trading around the clock, though liquidity is highest during the ‘regular cash session’, equivalent to when the pits on the trading floor of the exchange are open. Contracts for difference are normally also available for trading around the clock, though the spread may increase outside of normal market hours (to reflect the lesser liquidity in the underlying markets).
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Is direct market access available?
Direct market access, or ‘DMA’, allows you to trade directly into the order book of the exchange. Your order as well as that of all other market participants will be visible with in the order book, and you will be able to see the ‘depth of market’ – how many orders are queued and awaiting execution at each price level. The depth of market data can be used to gauge interest levels from buyers and sellers.
For all futures trading you will necessarily have direct market access.
A number of CFD brokers are able to provide this for specific markets (most commonly US stocks). They do this by taking a position identical to yours in the underlying market. So if you ‘buy’ a CFD on Acme then the broker will buy an equivalent number of shares in Acme Stock on the stock exchange. When you observe the order via DMA, what you are actually seeing is the broker’s buy order as they hedge their position and offset any losses they may experience as a result of the contract for difference that they have entered into with you.
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Do brokers charge a commission?
Brokers of contracts for difference and futures both charge commissions. These are an upfront cost payable each time you trade. Unlike the commissions that many stockbrokers charge, the fee for trades in futures and CFDs will depend on the number of contracts traded. For both products the commissions you are charged will depend on your choice of broker.
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Do brokers charge a spread?
Both products trade with a spread (the difference between the price at which you can buy and the price at which you can sell).
In the case of liquid futures contracts this will tend to be exceptionally small (often the single smallest possible price increment). CFD providers often use the futures markets to hedge the net exposure of their clients, so CFDs typically trade with a slightly larger spread.
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Is this product available in the US?
‘Over-the-counter’ (OTC) derivatives, which include CFDs, are not permitted by regulators for trading in the US. Traders in the UK and other parts of the world are able to trade US futures contracts, however.
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Is the broker a counter party to my trades?
Brokers act as the counter party to any Contract for Difference. They may choose to offset their risk in an underlying market, but your counter party in the contract is the brokerage firm.
Futures brokers are never normally the counter party to your position, though some large brokerages also operate market making divisions. However, all futures orders are routed and matched via the futures exchange, so if a broker does become counter party to your position this is purely coincidental, neither you nor the broker will be aware of this, and you will both be subject to exactly the same rules and regulations as any other market participant.
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Do the contracts trade on a central exchange?
All futures contracts trade on a central exchange such as the CME, NYMEX, or ICE. The exchange functions as an electronic meeting place for buyers and sellers to come together and transact.
By far the majority of contracts for difference are traded ‘over-the-counter’ and involve a direct exchange between the you and the broker, who acts as the counter party to your trade. Recent initiatives have seen some attempts to set up central clearing houses for CFDs, most notably in Australia by the Australian Securities Exchange.
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Are the contract terms standardized?
The terms for any futures contract are standardized by the exchange. Usually the settlement date is the only thing that differs from one front month to the next, and any significant changes or new contracts are widely published by the exchange.
The terms of contracts for difference are determined by each individual provider. This means that you cannot exchange your contract with with anyone other than that provider to close out your positions. However, it does not mean that the provider can change the terms of the contract once you have entered into it. It is worthwhile investigating the precise terms of each CFD before you begin trading it, particularly to understand how things like dividends are priced into the value of the contract.
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Is trading in the product regulated?
As leveraged derivatives, both products tend to be well regulated in most jurisdictions. In the UK, CFD providers must be registered and compliant with guidelines from the Financial Conduct Authority before soliciting clients. Arguably, futures provide a further tier of regulation coming from the exchanges, who task themselves with ensuring these markets function in a fair and orderly manner. The standardization of futures contracts may also make disputes easier for third party regulators to understand.